(Reuters) - Italy's head of state begins talks on Sunday to appoint an emergency government to succeed outgoing Prime Minister Silvio Berlusconi and handle a crisis that has brought the euro zone's third largest economy to the brink of financial disaster.
President Giorgio Napolitano is expected to ask former European Commissioner Mario Monti to try to form a government of technocrats in time for the opening of markets on Monday.
The appointment of a new government will come after Berlusconi faced a chorus of jeers and insults as he was driven to the Quirinale Palace to hand his resignation to Napolitano.
Crowds built up steadily after parliament passed a new budget law in the late afternoon on Saturday, clearing the way for Berlusconi to fulfill a pledge to resign after he failed to secure a majority in a crucial vote on Tuesday.
Following weeks of political uncertainty and growing calls from international partners for action to control its towering public debt, Italy's borrowing costs soared to unmanageable levels last week, threatening a Europe-wide financial meltdown.
Monti, named as Senator for Life last week, met European Central Bank President Mario Draghi and politicians from various parties on Saturday as preparations for a transition began even before Berlusconi stepped down.
He has not so far been named officially but he has received the backing of the main opposition groups and the conditional acceptance of Berlusconi's center-right PDL after objections from several factions in the party were overcome.
"In the end, a sense of responsibility prevailed," said Mario Baccini, a PDL lawmaker. He said the PDL would support a Monti government as long as it stuck to reforms agreed by the outgoing government with the European Union.
With the next elections not due until 2013, a government of technocrats could have about 18 months to pass painful economic reforms but will need to secure the backing of a majority in parliament and could fall before then.
Italy came close to a full scale financial emergency this week after yields on 10-year bonds soared over 7.6 percent, levels which forced Ireland, Portugal and Greece to seek an international bailout.
With public debt of more than 120 percent of gross domestic product and more than a decade of anaemic economic growth behind it, Italy is at the heart of the euro zone debt crisis and would be too big for the bloc to bail out.
Financial markets have backed a Monti government and as prospects of Berlusconi going became firmer last week, yields dropped below the critical 7 percent level.
TECHNOCRATS
It now falls to Berluconi's successor to try to reassure markets that a new government will be able to control spending and pass the kind of reforms to pensions, public service and labor markets that his government was unable to implement.
A technical government under Monti would avoid the need for a long and divisive election campaign, unsettling markets further, but its future will depend on maintaining the support of parliament.
A tough negotiator with a record of taking on powerful corporate interests as European Competition Commissioner, Monti will have to navigate the treacherous waters of Italian politics to survive.
On the left, likely reforms such as an increase in the pension age or easier hiring and firing rules could prompt strong opposition from unions once the elation of Berlusconi's departure has passed.
But the threat could be at least as great from the center-right with Berlusconi's old Northern League coalition partners declaring they will oppose a Monti-led government and many in the PDL also harbouring deep reservations.
In a potentially ominous sign of the dangers that may face a Monti government, Italian news agencies reported that Berlusconi had told party colleagues that they would control the future of a new administration.
"We can pull the plug whenever we want," he was quoted as telling party allies.
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